How Does Per Diem Work for Construction Workers?

Per diem is a fixed daily allowance an employer pays workers who travel away from their tax home overnight, covering lodging, meals and incidentals instead of reimbursing receipts. For construction crews, per diem paid under an accountable plan, at or below federal GSA rates, isn't taxable wages. Workers with no tax home can't receive it tax-free.

What is per diem in construction?

When a general contractor or specialty contractor sends a crew to a job too far to drive home from each night, the workers have extra costs: a motel, meals out, laundry. Instead of collecting every receipt, many employers pay a flat daily amount. That's per diem. Done right, it's a reimbursement, not wages: no income tax withholding, no Social Security or Medicare, and no W-2 box 1 income for the worker.

Done wrong, the IRS treats it as wages, and the employer owes back payroll taxes. Three tests decide which.

Test 1: Is the worker away from their tax home?

Your tax home is your regular place of business or work, not necessarily where your family lives. Per diem is only tax-free when the worker travels away from the general area of their tax home long enough to need sleep or rest.

If a worker has no regular place of work, Publication 463 uses three factors to decide whether the home where they regularly live is their tax home:

1. They do part of their work in the area of that home and live there while doing it.
2. They have living expenses at that home that they duplicate when work takes them away.
3. They haven't abandoned the area: family lives at the home, or they often stay there.

Meet all three and that home is their tax home. Two of three depends on the facts. Only one, and the IRS treats them as an itinerant: their tax home is wherever they're working, so they're never "away from home" and per diem is taxable wages. This catches travelers who live out of a camper and follow jobs from state to state with no home base.

Test 2: Is the job temporary? The one-year rule

A work assignment is temporary if it's realistically expected to last, and does last, one year or less. If it's expected to last more than a year from the start, it's indefinite, and the job site becomes the worker's tax home. Per diem paid for an indefinite assignment is taxable.

If a job is first expected to last under a year and later expected to run longer, it's treated as temporary until the expectation changes, then indefinite from that date. That's common on large commercial and infrastructure projects that slip.

Test 3: Is it paid under an accountable plan?

An accountable plan is the employer's written reimbursement policy. Per Publication 463, it must meet three rules:

1. Business connection. It pays only for business expenses incurred while working for you.
2. Adequate accounting. Workers substantiate the time, place and business purpose of travel within a reasonable period. The IRS treats 60 days after the expense as reasonable. With per diem, the daily amount stands in for receipts, but dates and locations still have to be documented.
3. Return of excess. Workers return any advance beyond what they substantiate, within a reasonable period (120 days is treated as reasonable).

A per diem paid whether or not someone actually travels has no business connection, so it's wages. And if the allowance is figured the way pay is, such as by hours worked, Publication 463 treats it as covering meals and incidentals only, not lodging. Tie per diem to nights away, not to the time card.

How much per diem can you pay tax-free?

Up to the federal rate for the place where the worker sleeps. You can use the actual GSA rate for each locality, the standard meal allowance (M&IE only, when you pay or reimburse lodging separately), or the IRS high-low method.

Partial days: for the days a worker travels out and back, the M&IE amount is prorated. One IRS-approved method is 3/4 of the daily M&IE rate for each travel day.

Per diem for self-employed contractors and owners

If you're self-employed and travel overnight for work, you deduct your own travel costs on Schedule C. You can use the standard meal allowance (the federal M&IE rate) instead of meal receipts, but there's no standard lodging amount for you: lodging is your actual cost, with receipts. Meals are generally 50% deductible either way.

If you own more than 10% of an S corporation that pays you a per diem, you're treated as related to your employer, and you must be able to prove your actual expenses to the IRS even if you accounted to the company. Ask your CPA how to set that up.

Per diem by trade

Common mistakes

• Paying per diem to everyone, including local workers who sleep at home. That's wages.
• Tying per diem to hours worked. An hours-based allowance is treated as covering meals and incidentals only. Tie it to days and nights away from home.
• No written plan and no travel records. Without them, the whole allowance can be reclassified as wages, with back payroll taxes.
• Paying more than the federal rate without reporting the excess. Any amount over the federal rate that isn't substantiated is taxable wages.
• Ignoring the one-year rule on long projects.

Related: the mileage deduction for driving to job sites, payroll taxes, W-2 vs. 1099, and the contractor taxes guide.